Clean and protect

With the Fourth Anti-Money Laundering Directive (AMLD4) now effective and the two-year countdown under way for EU country implementation, Christian Hausherr explains the rationale behind this increasingly complex area of financial crime prevention

Fighting financial crime means getting inside the mind of the financial criminal and understanding how the crime works. As the International Chamber of Commerce (ICC) puts it, “financial crime activities severely undermine the integrity and stability of financial institutions and systems, discourage investment into productive sectors and distort international capital flows.”1

Banks are pivotal in financial crime prevention, because the criminals perpetrating the terrorism financing, financial fraud or other similar crimes need bank accounts to hold and transfer their funds.

AMLD4, which became effective on 26 June 2017, requires financial institutions to significantly change their regulatory framework as it relates to preventing money laundering and terrorist financing. Firms are required to have undergone a detailed assessment of their policies and procedures to ensure they are in compliance with the new nuances introduced by AMLD4. In alignment with the 2012 FATF global recommendations 2, AMLD4 implements measures that aim to improve cross-border transactions oversight via identification of beneficial owner information, create public central registries per EU country, as well as ensure banks are held responsible for their KYC processes, with higher levels of due diligence in higher-risk jurisdictions and the application of standard sanctions. It affects not only financial institutions, but all service providers that hold other people’s money, such as law firms and property agents.

What is money laundering?

Money laundering is the intentional movement of cash and/or assets derived from illegal and criminal activities (predicate offences) into the legal, financial and business cycle. The attempt to disguise the true source of ownership of the funds, to disguise the ultimate disposition of the funds and to eliminate audit trails is part of the laundering process. Predicate offences are defined by local law and include activities such as forgery of money, extortionate robbery and drug crime, as well as fraud, corruption, organised crime and terrorism.

The movement of illicit funds usually takes place in a three-stage approach, falling into the following categories:

Placement (introduction of funds into the financial system);

Layering (covering the tracks of the original source by executing complex, often cross-border transactions); and

Integration (spending of funds for seemingly legitimate wealth).

Banks are increasingly mandated by regulators to prevent such activities and take action against financial crime, and their anti-financial crime departments are set up to define, enforce and maintain an effective risk management framework.

Development and impact of AML regulation

As of today, regulations are in the process of being harmonised and updated. AMLD4 is a good example of how financial crime regulation continues to be harmonised and updated. Having begun in 1991 with AMLD1, the directive was continuously refined, with its latest version dealing with enhanced customer due diligence, the concept of ultimate beneficial ownership and the risk-based approach for AML measures. AMLD5, which is currently being discussed within the EU Parliament as a result of the terrorist attacks in Paris and Brussels, looks at ‘modern’ payment instruments such as prepaid credit cards or virtual currencies, the creation of payment registries, and enhances and aligns powers of financial intelligence units.

The change in AMLD4’s correspondent banking definition now includes securities transactions (demanding a change in due diligence to be applied), and the International Securities Services Association AML/KYC principles that are designed to align securities custody chains approaches to the Wolfsberg principles for cash. These securities principles will be rolled out by the industry over the coming years.

Why do banks care?

Mindful of their position in the financial crime infrastructure, banks make considerable efforts to ensure operational and technological ability on AML infrastructure, enabling them to act as gatekeepers against financial crime. In other words, the motivation to fight money laundering is:

Regulatory. Banks have a legal requirement to comply with various AML-related regulations. The imposition of fines on non-compliant banks leads to financial loss and reputational damage.

Financial. Not only is the bank at risk of regulatory censure in the form of heavy fines, but financial crime threatens the bank’s assets such as capital and reserves.

Reputation. Banks have a moral obligation to fight financial crime. Public market reputation is a value in its own right, and banks are well advised in protecting this precious asset.

How banks tackle AML

On an operational level, banks have established procedures to identify their clients (KYC), plus in many instances their client’s clients (KYCC), as well as to monitor and filter the financial transactions that run through their books. Such measures are usually ensured via operational procedures, with thorough employee training programmes and technological infrastructure such as, for example, embargo lists or money-laundering filters.

On a strategic level, banks monitor the regulatory environment and engage in the market. Regulatory changes often trigger substantial investments into internal processes and hence need to be carefully planned. Banks also collectively take action and interact with the regulators, aiming to ensure effectiveness and efficiency in AML matters. Globally driven initiatives include the Financial Action Task Force (FATF), the Joint Money Laundering Steering Group (JMLSG), the Wolfsberg Group and the ICC Financial Crime Risk & Policy Group. Many of these initiatives are then implemented by national regulators.

When a client relationship is established, corporate clients have to identify themselves as well as their ultimate beneficiary owners. Relationships with financial institutions additionally require KYCC. Consequently, investments into procedures and technology related to AML are an obligatory part of the business and service that banks offer to clients. These efforts usually form a component of the transaction fees banks charge to clients and are part of the cost of fighting financial crime.

Rulemaking, interpretation and implementation

As the sophistication of financial crime evolves, anti-financial crime (AFC) regulation is constantly refined and augmented. The industry’s challenge is to drive safety and soundness, while maintaining operational efficiency – something that is encouraging cooperation between banks and with regulatory bodies.

Christian Hausherr is the European Product Head of Supply Chain Finance for Deutsche Bank’s Payables Finance solution and is engaged in the Wolfsberg Group, as well as the ICC FCR & Policy Group. The website sources in the article are up to date as of 29 August 2017

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